Earnings per share (EPS) may be defined as an amount of profit that a company earns per one share of its common stock. Companies from the USA are obligated to report their earnings per share for all of the biggest income categories.
Calculating EPS
Earnings per share are calculated by using the following formula:
(Profit – Dividends on Preferred Stock) / Average Outstanding shares
This is the basic formula, and there are few more besides it: net income formula and continuing operations formula.
Significance
When estimating the price of a share, the most important factor is EPS. Also, EPS is a great part of calculating the price-earnings ratio.
Two companies may have the same earnings per share number, with their profits being different. How is that possible? As mentioned above, EPS is calculated by a formula, and that formula consists of three variables. So, one company can have greater profit (or net income) compared to another, but they can still have the same EPS value.
Types of earnings per share
Although the formula seems pretty straight forward, the EPS is often the subject of manipulation and fraud. Knowing how to evaluate the quality of EPS is crucial when deciding about buying shares. In order to make better decision, potential investors need to be well-informed about types of EPS.
Reported earnings per share – it is a reported number which is extracted from GAAP. The amount represented by earnings can in some cases be false. There are ways to boost earnings per share and give an impression that there are more earnings than there actually are.
Ongoing earnings per share – it is determined by the ongoing earnings without considering events that happened just once.
Pro forma earnings per share – it allows the company to exclude some expenses or earnings in order to get a more realistic picture about the profit.
Headline earnings per share – the EPS number used for commercial purposes such as press releases. It’s not 100% reliable since it can be the pro forma number or estimated by an accountant.
Cash earnings per share – it is considered to be the most reliable and accurate number of all EPS types. Higher cash EPS usually means that the company has more profit and it is in better financial situation. Other EPS types may mean the same thing, but they are far less trusted.
